Incentives for Information Production in Markets Where Prices Affect Real Investment

Journal of the European Economic Association, Forthcoming

38 Pages Posted: 22 Nov 2013 Last revised: 9 Jul 2016

See all articles by James Dow

James Dow

London Business School - Institute of Finance and Accounting

Itay Goldstein

University of Pennsylvania - The Wharton School - Finance Department

Alexander Guembel

Toulouse School of Economics, University of Toulouse Capitole

Multiple version iconThere are 2 versions of this paper

Date Written: July 5, 2016

Abstract

We analyze information production incentives for traders in financial markets, when firms condition investment decisions on information revealed through stock prices. We show that traders’ private value of information about a firm’s investment project increases with the ex ante likelihood the project will be undertaken. This generates an informational amplification effect of shocks to firm value. Information production by traders may exhibit strategic complementarities for projects that would not be undertaken in the absence of positive news from the stock market. A small decline in fundamentals can lead to a market breakdown where information production ceases, and investment and firm value collapse. Our theory sheds light on how productivity shocks are amplified over the business cycle.

JEL Classification: G14, G31, E32

Suggested Citation

Dow, James and Goldstein, Itay and Guembel, Alexander, Incentives for Information Production in Markets Where Prices Affect Real Investment (July 5, 2016). Journal of the European Economic Association, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2356994 or http://dx.doi.org/10.2139/ssrn.2356994

James Dow (Contact Author)

London Business School - Institute of Finance and Accounting ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom
+44 20 7262 5050 (Phone)
+44 20 7724 3317 (Fax)

Itay Goldstein

University of Pennsylvania - The Wharton School - Finance Department ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States
215-746-0499 (Phone)

Alexander Guembel

Toulouse School of Economics, University of Toulouse Capitole ( email )

Manufacture des Tabacs
21, allee de Brienne
Toulouse, 31000
France

Register to save articles to
your library

Register

Paper statistics

Downloads
268
Abstract Views
1,379
rank
49,189
PlumX Metrics